October 16, 2006

California: Majority Vote Law Enacted

Back on September 30th, California Governor Schwarzenegger did signed SB 1207 into law (a topic that has been the subject of several blogs). Here are a few thoughts from Keith Bishop:

1. The amendments allows a “domestic corporation” that is also a “listed corporation” to amend either its articles of incorporation or bylaws.

2. Not every publicly-traded corporation is a “listed corporation”. A “listed corporation” is defined as a corporation with outstanding “shares” listed on the NYSE or the AMEX or a corporation with outstanding “securities” listed on the National Market System of the Nasdaq Stock Market (or any successor to that entity). Cal. Corp. Code Section 301.5(d).

Note that California has not yet amended Section 301.5(d) to take into account the recent change in status and name of the Nasdaq markets. Publicly traded companies with only debt securities listed on the NYSE or AMEX, shares traded on the OTC Bulletin Board or the Pink Sheets will not be affected by the new law.

3. The new law doesn’t require a majority vote – it requires “approval of the shareholders” which is defined a little bit differently. Under California law, “approval of the shareholders” requires the affirmative vote of a majority of the shares represented and voting at a duly held meeting at which a quorum is present. This requirement is similar to a majority of the votes cast (i.e., abstentions don’t have a negative effect).

However, California adds an additional requirement that the shares voting affirmatively must also constitute at least a majority of the required quorum. For example, assume that a corporation has 100 shares issued and outstanding and 51 shares are present at a meeting. If 25 votes are cast FOR, 24 votes are cast against and 2 votes are abstention, the first part of the test will be met. 25 votes represents a majority of the shares represented and voting (25/25+24 = 51%). However, the second part of the California test will not be met. The required quorum is 51 and 26 votes would be required to constitute at least a majority of the required quorum.

4. The new law does not limit the right of the board appoint a candidate who fails be reelected to special circumstances. The bill simply provides that a vacancy may be filled in accordance with existing Section 305 of the Corporations Code. That section generally allows vacancies (other than by removal) to be filled by “approval of board” or if the number of directors then in office are less than a quorum by (i) the unanimous written consent of the directors then in office; or (ii) the affirmative vote of a majority of the directors then in office.

This rule may be abrogated by the articles or bylaws. Thus, it is important to check them. If the vacancy is the result of a removal, the directors may not fill a vacancy unless the articles or a bylaw adopted by the shareholders so provides. Although the failure to be reelected has the effect of a removal, I don’t believe that a vacancy occurring by reason of a failure to be reelected should be treated as a removal for purposes of Section 305. I hope that this and other drafting problems with the new law will be corrected in the future.

5. As a result of the enactment of SB 1207, California domestic corporations that are listed corporations must now decide whether to retain (or even re-adopt) cumulative voting (in which case the provisions of the new law won’t be available). If they elect to opt out of cumulative voting or have already done so, the board (unless the power to amend or adopt bylaws has been restricted or eliminated) or the shareholders could choose to adopt the new voting procedures.

Wave of Class Actions Filed Against Sponsors of 401(k) Plans

From a recent Gibson Dunn memo (which is included in our “ERISA Securities Litigation” Practice Area): “A wave of putative class action lawsuits were filed last week against sponsors of 401(k) plans and other defined contribution retirement plans. The lawsuits were filed in federal courts throughout the country against some of the largest and best known companies in the U.S. The lawsuits, alleging violations of the Employee Retirement Income Security Act of 1974 (“ERISA”), target the fee structures found in some plans that offer mutual fund investments as well as plans that permit participants to invest in a fund comprised solely of the sponsor’s stock. Several observers have predicted that additional similar lawsuits will be filed in the future against other companies and their 401(k) plans or other defined contribution retirement plans.

While each lawsuit is founded on the specific terms of the plans in question, they all have several common characteristics:

1. The named defendants are the corporate plan sponsors, the administrative committees for each plan, and, in some instances, the individual members of the board of directors for the corporate sponsor.

2. Each lawsuit asserts that the compensation paid to investment managers and other service providers is excessive, thereby violating the prohibited transaction rules of ERISA. The complaints allege that, in addition to “hard dollar” forms of compensation, many of the investment managers and/or administrative service providers are compensated by undisclosed revenue sharing for having steered plan investments to a particular investment vehicle. These allegations echo complaints made by investors and others in the past few years against brokerages and mutual funds for not disclosing certain fees and compensation paid to the broker for making the fund available to investors.

3. Several of the plans in question are ERISA § 404(c) plans that permit participants to select the investment fund in which their account balances will be invested. The class action suits allege that the failure to disclose the true compensation arrangement for service providers constitutes a violation of the disclosure rules under ERISA.

4. Some of the lawsuits challenge the fees charged participants in connection with funds in which the participant can invest in the sponsor’s stock.